How Your Deposit Affects Your Mortgage Rate
17th May 2017
Typically, having a larger deposit relative to the total purchase price gives you access to mortgage deals with lower interest rates. However, there are several other factors that determine the amount of money you can borrow and the rates you’re offered.
The loan-to-value ratio
When you’re buying a home, the size of your deposit relative to the purchase price is important. It can affect whether lenders agree to lend to you as well as the initial interest rates you’re offered.
The figure that’s used for these calculations is the loan-to-value (LTV) ratio. The LTV is the percentage of the total property value that’s being paid for by the mortgage. For example, if you have a deposit of £20,000 and you’re buying a house for £200,000, you have a 10% deposit, and therefore an LTV of 90%.
A bigger deposit usually means better initial rates
You usually need a deposit of at least 5% (and therefore an LTV of 95%) to get a mortgage, although how much you can borrow will also depend on your income, alongside other factors.
If you have a larger deposit and therefore a lower LTV, you’ll have access to a greater number of mortgage deals and lower initial interest rates, because lenders see you as lower risk.
Trussle mortgage adviser Ushma explains how it works in practice.
“If you were buying a home worth £200,000 and you had a deposit of 5% (meaning an LTV of 95%), you may be offered initial rates of around 3.5%. A deposit of 10%, meanwhile, may mean initial rates starting at under 2%. A deposit of 20% could mean you’re offered initial rates as low as 1.33%.”
“If you can, saving for a larger deposit can be a real benefit - by doing so, you could achieve a lower rate of interest. This means less interest to pay over the term of the loan, potentially saving you thousands.”
Having a larger deposit means that you need to borrow less money, but the fact that it could also give you access to lower interest rates means that it can make a big difference to both your monthly repayments and the overall cost of your loan. As a result, it might be a good idea to wait until you’ve saved a bigger deposit before taking out a mortgage.
£200,000 total property price, mortgage term of 25 years
Deposit size only impacts initial rates
However, it’s important to understand that although you may be offered lower initial mortgage rates if you have a larger deposit, this initial deal will typically only last a few years.
After your initial rate period has ended, your mortgage will usually revert to the lender’s Standard Variable Rate (SVR), which tends to be higher and can change at any time.
To avoid this, you could remortgage to a new deal with another lender to benefit from another initial deal. You can potentially keep doing this every time each initial deal ends, so you’re never paying the lender’s SVR. However, there are some costs involved in getting a new mortgage, and if the value of your home falls (increasing your LTV) you might not be able to find a cheaper rate, so don’t forget to take these into account when planning for the future.
A few important points to remember:
A bigger deposit relative to the value of your property means that you have a lower LTV.
A lower LTV usually means access to more mortgage deals and better initial interest rates.
A lower interest rate can save you a lot of money on your mortgage.
Once your initial rate period is over, you’ll usually be switched to your lender’s Standard Variable Rate. You’ll want to consider switching to a more suitable deal to avoid paying this higher rate.